Research Dept. News
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Monthly Report, num 326 - July-August 2009
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International review - From subprime mortgage crisis to global recession: the transmission to emerging economies
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How can we explain the rapid global spread of the credit crisis?
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One of the surprises of the current financial crisis has been its global scope. According to the forecasts of the International Monetary Fund (IMF), a total of 69 countries, equivalent to 75% of the world economy, will see their gross domestic product (GDP) drop in 2009. Of the remaining 25% that can avoid a drop in GDP approximately half is due to just one country, namely China. Furthermore, it spread very rapidly seeing that up until practically the end of Summer 2008 it seemed that the crisis was confined to the centre of the world economic system, that is, to the industrialized countries. In order to understand how the crisis has been able to affect practically the whole world it is necessary to explore its international transmission channels.
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One initial means for this shift is of a financial kind. There is some agreement, that a characteristic factor of the current crisis is the extreme financial stress it has brought about, especially notable as of September 2008. As of that moment, at least four aspects of financial stress substantially worsened. There were sharp price drops on the stock market, risk aversion shot up, doubts increased about the state of banking institutions and foreign exchange pressures grew worse. In an attempt to quantify this phenomenon and bring it together in a single indicator, the International Monetary Fund (IMF) recently prepared an index that includes the various areas of financial stress related to the emerging economies.(1)
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According to this indicator, these economies underwent a drastic increase in financial stress in the third and fourth quarters of 2008, a situation that began to ease (although holding at historically high levels) in the first quarter of 2009. This stress, always according to this indicator, began earlier in the industrialized countries and also began to undergo correction in these economies earlier than in the emerging markets. By area, the trend in the emerging economies shows some differences. Financial stress was greater in emerging Asia than in Latin America or Emerging Europe. Nevertheless, the latter (as distinct from what happened in the rest of the world) is not showing any appreciable remission of financial stress in the first quarter of 2009.
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What have been the appreciable effects of this financial tension? Two notable developments are the repatriation of capital and the lowering of credit to the private sector. With regard to the former, according to the forecasts of the Institute of International Finance, private flows of credit from the industrialized countries went from net inflows of 200 billion dollars in 2008 to a net outflow of 100 billion dollars. More than half of this change was due to the turnaround in financial flows of commercial banks. This movement will be sharper in Emerging Europe than in Asia or Latin America. Domestic private credit, in turn, underwent a sharp slowdown in year-on-year growth rates in the three areas, although the slowdown was greatest in Latin America.
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As well as this channel for passing on financial stress, a second way is through world trade. The reduction in world trade has been unexpectedly steep in recent months. According to IMF figures, world exports of goods last January stood at levels 26% lower than one year earlier. The emerging countries and those still developing have not escaped the tendency mentioned earlier while their exports of goods fell by 25% year-on-year in January.
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The sharp contraction in world trade arises not only from the drop in domestic demand in the industrialized countries but also from the fact that there was a blockage on world commercial credit. While the financing of international trade is of relatively low risk, as it is well collateralized, it has shown to be very sensitive to financial problems of a global nature. This was the case during the Asian crisis although on that occasion it was restricted only to those countries affected but now it has had a bigger impact. According to some estimates, around 80% of world trade depends on credit to a greater or lesser degree. It is also normally a matter of short-term financing. In addition, the difficulty in having access to credit in various countries at the same time has affected world supply chains. All of this has meant that the world credit crisis has had a rapid and sharp impact on world exports.
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From the above we must deduce that the crisis became a global one because financial and trade flows are global in nature. And, if we are tempted to look back to periods of lesser economic and financial integration as a remedy to avoid such developments, we should not forget that it is precisely this integration that has made it possible that over the past 20 years, for the first time in centuries, three-quarters of the world has had reasonable prospects of escaping from poverty.
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This box was prepared by Àlex Ruiz
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International Economy Department, ”la Caixa” Research Department
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